Automobile purchases drive small jump in August sales

WASHINGTON - Consumers kept spending in August and factories kept producing, but the gains were weaker than expected as financial market turbulence and a slumping housing market continued to weigh on the economy.

Analysts said the new economic reports released Friday give the Federal Reserve more reasons to cut a key interest rate when policymakers meet next week.

The Commerce Department said retail sales increased 0.3 percent in August with the strength led by a 2.8 percent jump in auto sales, the biggest increase in this category in more than a year.

Separately, the Federal Reserve said industrial output edged up by 0.2 percent in August with all of the strength coming from a big jump in utility production in response to an August heat wave. Manufacturing dropped for the first time since February.

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Analysts said the lackluster showing for sales and production added pressure on the Fed to start cutting interest rates to make sure the financial market turmoil of the past month does not push the country into a recession.

"Consumers have turned more cautious under the weight of the weakening housing market, high gasoline prices and now a fragile job market," said Mark Zandi, chief economist at Moody's Economy.com. "The retail sales number is just one more reason for the Fed to lower rates."

Consumer confidence, as measured by the RBC Cash Index, fell to 71.1 in early September, the worst showing since May 2006. A University of Michigan preliminary reading for September moved to 83.8 from 83.4 at the end of August, but that followed a sharp drop from the July level.

The worry is that consumer spending, which accounts for two-thirds of total economic activity, could falter in coming months, dragging the country into a full-blown recession. The government reported last week that businesses cut 4,000 jobs in August, the first job losses in four years.

Many economists predicted the Fed would cut its target for the federal funds rate, the interest that banks charge each other, by a quarter-point to 5 percent. It would mark the first reduction in four years in the funds rate, which directly influences banks' prime lending rate, the benchmark for millions of consumer and business loans.

Some analysts said a half-point cut in the funds rate could be justified, given all the bad economic news recently, but the Fed under Chairman Ben Bernanke is likely to want to proceed more cautiously.

Lyle Gramley, a former Fed governor who is now an economist with Stanford Financial Group, said he believed unfolding weakness coming from the worst slump in housing in 16 years would eventually force the Fed into more aggressive rate cuts. He predicted a quarter-point cut in September would be followed by a half-point reduction in October.